The latest discourse on economic policy in Canada is creating more harm than good. With Ontario Premier Dalton McGuinty raising the spectre that Alberta oil sand developments are crowding out Ontario manufacturing, we are back to the 1970s debate that eventually led to one region being pitted against another. Canada’s growth will depend on all its industries flourishing, not just one or the other.

None of this has been helped by sectoral campaigns for national strategies, whether energy, high tech, financial services, transportation or manufacturing. This industry-specific focus eventually leads to endless requests by advocacy organizations for subsidies, tax breaks and other preferential policies that could prop up the ribbon industry as politicians announce various vote-getting programs.

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Instead of concentrating on basic economic principles that lead to strong economic growth, such as an efficient allocation of resources put to their most productive use, we get a ranking of industries. Even U.S. President Barack Obama and Republican presidential candidate Rick Santorum think some industries are more vital than others, with manufacturing as the most vital of all.

Then there are economists who point to the “Dutch disease,” whereby the booming resource economy is said to be crowding out the manufacturing industry. The term “disease” itself is pejorative, with the presumption that resource sectors are bad and the manufacturing sector is good. It is rooted in a 1977 Economist article on how Netherlands manufacturing suffered as a result of a 1959 discovery of a large natural gas field, which drove up the Dutch currency. Maybe Dutch manufacturing did decline, but one would be hard pressed to argue that the Netherlands has not been one of the exceptional European economies in the past half century.

While the “Dutch disease” argument has some relevance in that natural resource booms can push up a country’s exchange rate, thereby making other exporting industries less competitive, it would also be the case with declining natural resource prices and falling exchange rates that exporting industries would grow while the resource-based economies would fall back.

Canada has witnessed such volatility over the years, with rising commodity prices in the 1970s, falling prices in the 1980s, relatively stable prices in the 1990s and rising prices in the past decade, recently brought on by accelerating growth in the emerging economies. If the Dutch disease analysis was valid, we should see the growth of manufacturing during years of low resource prices (and low exchange rate), followed by other years when commodity prices were booming.

This is only in part true. As shown in the graphs, manufacturing in Ontario, industrial states and the United States in general has been on a steady decline for 35 years. In Ontario, manufacturing jobs as a share of total industrial employment has fallen from 23% in 1976 to 12% in 2011. In the U.S., manufacturing has declined from 22% in 1976 to 9% today. Today, even in Ontario, Michigan and Ohio, manufacturing is not that important as a source of employment.

Despite changes in the Canadian exchange rate relative to the U.S., Ontario’s falling manufacturing sector matches the Ohio and Michigan experience. Sure, there are some cyclical trends when manufacturing jobs rose in Ontario during the period of a low exchange rate. But the long-term trend in manufacturing decline dominates. Thus, the “Dutch disease” explains little. Canada, like the United States, has lost manufacturing jobs going elsewhere, especially low-wage economies, a historical trend that is typical of most industrialized economies.

So instead of a Dutch disease, what we really have is manufacturing malaise. In fact, the Dutch disease is not really a good characterization of today’s global supply chains that link countries in complicated ways. When commodity prices rise, the resource sector booms. The resource industries then demand more workers and inputs from other industries in Canada. Imported intermediate goods and capital goods fall in price, enabling companies to cut expenses so that they can remain more competitive internationally. How this impacts on various industries varies, as some export-intensive businesses are squeezed by a higher Canadian dollar, while others do even better with rising commodity production and cheaper imported goods and capital prices.

Looking at the trends since the Great Recession of 2008-09, we see that manufacturing in Ontario, Michigan and Ohio declined almost in lock-step with each other. This resulted from the contraction of the North American auto industry due to bad management practices and high labour costs that cannot compete with low-cost countries.

Ontario does need to fix its economy, but we must remember that it has quite strong sectors, such as financial services, mining, forestry and high tech. A falling exchange rate is not the answer to competitiveness. On the contrary, we impoverish ourselves by reducing our purchasing power to buy goods and services globally. Only losers like low exchange rates. Ontario’s best policy approach is to make sure that its spending, tax and regulatory policies do not undermine economic growth.

Manufacturing can only survive by specializing in skills-intensive products that cannot be produced in low-income countries. In the end, Canada’s economy is strongest if businesses are productive and innovative, not just one industry or another. This is the best strategy for economic growth, not whether it would be energy or manufacturing.
Financial Post
Jack Mintz is a professor of public policy at the University of Calgary.

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